Question

Assume a risk-free rate of interest of 4%, an expected rate of return on the market portfolio of 9% and a beta of 1.2 then the traditional domestic CAPM results in a cost of equity of

Answer 1

10%

Step-by-step explanation:

In this question, we apply the Capital Asset Pricing Model (CAPM) formula which is shown below

Expected rate of return = Risk-free rate of return + Beta × (Market rate of return - Risk-free rate of return)

= 4% + 1.2 × (9% - 4%)

= 4% + 1.2 × 5%

= 4% + 6%

= 10%

The (Market rate of return - Risk-free rate of return) is also called market risk premium